Will Gilead Sciences Inc. Set Its Sights on Incyte?

Evercore ISI investment bank recently conducted a survey of 244 biotech industry observers. The survey participants were asked which biotech is most likely to be acquired over the next 12 months. They were also asked which company they would most like to be the buyer in the deal. Incyte (NASDAQ: INCY) received the highest number of votes for the biotech most likely to be acquired. Survey respondents chose Gilead Sciences (NASDAQ: GILD) as their top pick to buy Incyte.

Is Incyte actually a smart acquisition target for Gilead? Let's take a look at how wise the crowd might be in this case.

Product fit

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Incyte currently has two approved products. Jakafi is a JAK1 and JAK2 inhibitor that is used to treat patients with bone marrow diseasepolycythemia vera. Incyte also bought the European marketing rights for leukemia drug Iclusig from Ariad Pharmaceuticals in May.

Jakafi and Iclusig might not seem to be a great match for Gilead at first glance. The big biotech is best known for its hepatitis C and HIV franchises. However, Gilead has been deliberately branching out beyond those indications.

Gilead's sole cancer drug on the market right now is Zydelig, which is approved for treatment of relapsed chronic lymphocytic leukemia (CLL),non-Hodgkin lymphoma, and relapsedsmall lymphocytic lymphoma (SLL). Its pipeline includes eight hematology and oncology clinical trials. Three of those are late-stage studies. Jakafi and Iclusig would likely fit pretty well with Gilead's growing cancer portfolio.

What about Incyte's pipeline? The smaller biotech also has several clinical studies in progress targeting hematology and oncology indications, including trials featuring four potential cancer immunotherapies. If Gilead is seriously looking to beef up its presence in the oncology market, Incyte could be a tempting target.

We shouldn't leave out another bright spot in Incyte's pipeline, anti-inflammatory drug baricitinib. While Eli Lilly owns the marketing rights to the drug, Incyte stands to receive significant royalties of potentially $1 billion per year at peak sales.

Financial fit

The financial arena is where things get a little more challenging. Gilead reported $24.6 billion in cash, cash equivalents, and marketable securities on hand as of June 30, 2016. The company is also generating nice cash flow. In the second quarter, Gilead's cash flow from operations stood at $4.9 billion.

However, it would take a big chunk of Gilead's cash stockpile to buy Incyte. The market has placed a lofty valuation on Incyte. The smaller biotech's market cap currently stands at almost $18 billion. Gilead would probably have to pay a nice premium above that level to acquire Incyte.

This kind of huge deal hasn't been Gilead's preferred approach -- at least not over the last couple of years. The company bought Nimbus Apollo in April for $400 million.Gilead spent $725 million earlier in 2016 to win rights to Galapagos' anti-inflammatory drugfilgotinib.Last year, the biotech bought privately heldEpiTherapeutics for$65 million.

On the other hand, Gilead's most impressive acquisition deal was probably its 2011 purchase of Pharmasset. Some scoffed at Gilead paying what was considered at the time to be a sky-high price of $11 billion. Gilead had the last laugh, though. The company picked up hepatitis C drug Sovaldi in the transaction, which made enough to recover the cost of buying Pharmasset less than a year after winning regulatory approval.

Fit to be tied?

I think that Incyte appears to be a pretty good fit for Gilead from a product perspective. The addition of Jakafi, Iclusig, and Incyte's pipeline should help Gilead stretch beyond hepatitis C and HIV.

The price of a potential buyout of Incyte, though, is concerning. My view is that Gilead would probably be better off continuing its strategy of making smaller acquisitions and licensing deals. I think these smaller bets are more likely to pay off over the long run.

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Keith Speights owns shares of Gilead Sciences. The Motley Fool owns shares of and recommends Gilead Sciences. The Motley Fool has the following options: short October 2016 $85 calls on Gilead Sciences. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.